A Dynamic Regional Applied General Equilibrium Model with Five Factors of Production

Since the mid 1980s, applied general equilibrium (AGE) models have been used to analyze the effects of regional economic policies. Unfortunately, most regional AGE models use assumptions that are too restrictive to yield reliable results. This paper presents an AGE model for regional policy analysis that has four major improvements compared to existing regional AGE models. First, the model is dynamic, which permits a more coherent description of intertemporal optimization decisions than is possible in a static model. Second, the model incorporates both the sale value and the rental value of assets, which permits the inclusion of investment projects whose returns consist of mixtures of payments and capital gains or losses. Third, the model uses five factors of production: land, labor, buildings, machines, and infrastructure, which differ in mobility and reproducibility. Fourth, the model replaces the generally used assumption that goods from a given industry that are produced in different regions are imperfect substitutes (the Armington assumption) with the assumption that these goods are perfect substitutes, which is more realistic for regional models given the data that are commonly used for the analysis. Journal of Economic Literature Classification Numbers: C68, D58, R13